Standard & Poor’s said Friday that S&P 500 company buybacks surged 72% during the fourth quarter of 2004 and grew by a record 51% for the entire year.

In a report, the rating agency attributed the record number of buybacks to an increase in exercised employee stock options. “Employees appear to have participated in some profit taking, using the gains of 2003 and 2004 to cash in on some of their option holdings,” Howard Silverblatt, equity market analyst at S&P, said in a statement. “In addition, many employees had seen their option values drastically reduced during the bear market, but now appear to more fully understand the volatility associated with stock options.”

Companies take advantage of stock buybacks for several reasons, S&P said: to reduce their overall share count (thereby increasing current shareholder values), to reissue the shares for mergers and acquisitions, and to satisfy employees looking to exercise their stock options.

For 2004, M&A activity within the S&P 500 was relatively low, and actual share reductions were found in less than a quarter of the index’s constituents. The majority of announced buybacks were issued to cover existing employee stock options that were tendered.

S&P data shows that during the first three quarters of 2004, stock buybacks increased by 41.7%, and in the fourth quarter, surged 72.4% as companies prepared to fulfill an increased level of employee stock options that were either tendered or were expected to be tendered.

Full buyback expenses in 2004 reached $197 billion surpassing the $131 billion for 2003 and the $181 billion for cash dividends in 2004.

Buyback activity was concentrated primarily in the information technology sector, which represents 15% of the S&P 500’s market value, but accounted for 26% of the 2004 buybacks, it reports. The energy sector also experienced a large increase, accounting for 7.7% of the buybacks compared to a historical 4.1%.

“Standard & Poor’s attributes the energy buyback increase to a sharp rise in their stock prices which created a large variance between the option strike price and the market buyback price,” said Silverblatt. “We estimate that over the past 10-years, current S&P 500 members have spent nearly US$1.2 trillion on buybacks.”

For 2005, Standard & Poor’s expects buyback activity to continue. “Given the number of options already outstanding and the unwillingness of companies to dilute their share count, 2005 buybacks are likely to outpace that of 2004, while also setting another record,” said Silverblatt.